Jean-Louis
Caccomo is an economist at l'Université de Perpignan and is
the author of L’épopée de l’innovation. Innovation technologique et
évolution économique (L’Harmattan, Paris 2005).

MARKET FAILURES AND EXTERNALITIES DO NOT JUSTIFY
GOVERNMENT INTERVENTION *

by Jean-Louis Caccomo

The most recent evolution in economic theory aims to rehabilitate
government intervention by hiding behind a pseudoscientific approach that
portrays market failures in highly mathematical terms – the better
to forestall any potential challenges. The theory of market failures
relies on two types of arguments: market imperfections on the one
hand, and the existence of externalities on the other.

Although these two arguments take on the semblance of mathematical
demonstration, they are based on deliberate confusions that
completely undermine their impact. They have nevertheless become the
arguments of choice for those socialists who appear resigned to
market economics but consider that the market cannot function
without the crutch of a state whose regulatory nature is never
really called into question.

First of all, what is usually called a "market imperfection" is not
really a market imperfection at all, but simply the imperfection of
human action itself. Human action being based on learning and
discovery, it is always perfectible, a fact which is well
encapsulated by the popular saying, "To err is human." The
imperfections that effect the decentralized decisions of economic
agents will also characterize the centralized decisions of planned
organizations like the state and its administrations. In both cases,
whether we're talking about civil servants or stockholders, it is
always human beings who make decisions. In addition, the
imperfections inherent in public choices will be amplified as the
decision maker is further and further removed from the field where
his decisions are applied.

From this point of view, it is unclear how governments can correct the
imperfections contained in economic choices. This corrective
capacity is simply assumed to exist in the models' hypotheses, but
it is never demonstrated. I have discussed at length in other
articles the question of information asymmetry that constitutes an
example of imperfection. But the presence of information asymmetry
in human choices is probably exactly what makes the market
irreplaceable, if we acknowledge the Hayekian principle according to
which competition is a process of discovery. The market makes
comparison possible, and therefore encourages the emergence of new
information allowing individuals to compensate for – if not correct
– the initial asymmetry.

A central planner never escapes the information asymmetry he
pretends to correct, since he will make decisions based on
information provided to him by the rank and file. Thus, the state never has the right information, but remains unaware of this fact.
From this perspective, we can even consider the market to be the
lesser evil, since when economic actors are free to act, the
imperfections inherent in human decisions are compensated for at the
microeconomic level.

“To pretend that state action can correct
externalities generated by the market is to posit once again that
this government intervention does not itself generate externalities. By
what miracle? Nobody knows.”

Second of all, invoking "externalities" verges on
intellectual fraud insofar as, in human societies,
practically everything generates externalities. If I am in
good health, I can work, so I call on society to finance my
health. But if I have children and educate them well, there
will be workers in the future, which is useful for society,
so I call on society to subsidize my parenthood and I ask
for all sorts of parental allocations. At this rate, I can
get everything subsidized, since it is always possible to
invoke some positive externality, which is to say, some
result of my private decision that benefits others. In
effect, if I am happy and fulfilled, I will not attack my
fellows and I will be fully productive in my work. It is
therefore society's responsibility to see to my happiness…
We're talking here of positive externalities, but the
existence of negative externalities is used to justify the
regulation of behaviour, and notably the multiplication of
prohibitions to the extent that my private decisions have
side effects that harm others.

It is not a matter of questioning the existence of
externalities, even if their precise measurement poses real
problems, severely limiting the applicability of this type
of theory. But we must realize here too that the existence
of externalities is not specifically a market phenomenon. We
can even suggest that the market itself exists in part to
take advantage of this phenomenon, since competition can be
seen as a positive externality issuing from the division of
labour. Furthermore, to pretend that government action can
correct externalities generated by the market is to posit
once again that this state intervention does not itself
generate externalities. By what miracle? Nobody knows.

Government intervention implies public financing and the establishment
of a technocracy, which entails an increase in the tax
burden, which in turn sets off a whole series of negative
externalities (tax evasion, corruption, the development of
an underground economy, the modification of the way people
think, the crowding out effect…). How can we know whether
the sum of these negative externalities is not more costly
and more serious than the initial problem that motivated and
justified the state's intervention?

In practice, it can be observed that in a growing number of
areas, market mechanisms are being reintroduced to
compensate for the accumulated failures of public
management, in flagrant opposition to the official dogma
that posits the need to call on the government to correct for market failures.